Trading strategically in the forex market typically involves a number of elements that should be thoroughly reviewed before an actual trade is made with any substantial amount of trading capital. The main element consists of developing and testing an objective trading plan, which ideally indicates when a trader should enter and exit the market, as well as the amount of risk the trader is willing to assume with each position. The risk management aspect of a trading plan is where position sizing becomes very relevant to a forex trader.
With a relatively fixed account balance to start trading any market, you must focus on the position size you will have on each trade. How big or small your position it should not be a random decision. Position size is precisely calibrated for the risk of the trade and your personal risk limit. Position sizing can make or break a trader; too risk adverse and the account won’t grow, take positions that are too large and the forex market can wipe out an entire account in one big move.
Successful forex traders usually know precisely what percent of their trading account will be placed at risk with any given trade. They will also usually avoid extending the risk they take when trading beyond the limits of their trading account’s expendable funds. Nevertheless, increasing position sizes as your account grows makes some sense since the overall level of risk taken remains the same. In addition, reducing the size of positions in volatile markets can cut down on risk considerably.
A big problem that many traders have is that they approach to position sizing completely wrong and they set their stop loss distance last. So, before you enter a trade, know where your stop loss will go. Then you measure the distance between the entry price level and the stop loss level. Never ever manipulate your stop loss distance to achieve a certain position size – never set your stop closer because you want to buy more lots.
Due to the extreme volatility inherent in trading currencies, the selection of a suitable position sizing technique can be crucial to the success of a forex trader. The first and foremost consideration for position sizing and trading forex, in general, is to survive to trade another day, and that can only be done by managing risk appropriately. Success is secondary since not being able to trade basically eliminates the possibility of being successful.